Litigation Risk and the Financial Reporting Credibility of Big Four vs. Non-Big Four Audits: Evidence from Anglo-American Countries
Posted: 7 Nov 2003 Last revised: 17 Jun 2010
Date Written: June 17, 2010
Prior research suggests that Big Four auditors provide higher quality audits in the US in order to protect the firm's brand name reputation and to avoid costly litigation. In this study, we examine whether the perceived higher quality of a Big Four audit is related to auditor litigation exposure or to reputation concerns. Specifically, we utilize an estimable proxy for financial reporting credibility - the ex ante cost of equity capital - to examine whether Big Four auditors are perceived as providing higher quality audits (relative to non-Big Four auditors) in the US, and in the less litigious (but economically similar) environments in other Anglo-American countries during the 1990-99 period. We find that a Big Four audit is associated with a lower ex ante cost of equity capital for auditees in the US but not in Australia, Canada, or the UK. Our findings suggest that it is litigation exposure rather than brand name reputation protection that drives perceived audit quality.
Keywords: financial reporting credibility, Big Four vs. non-Big Four audits, ex ante cost of equity capital, corporate governance
JEL Classification: M41, M49, M47, G12, G34, K22
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